In a world where growth remains anemic at best, prospects for continued GDP growth in India are bright. Thus, RBI?s policy statement comes against the background of continuing economic momentum with GDP likely to grow at 8.5% this year. Credit growth of all schedule commercial banks (ASCB) has also picked up to 20.1% y-o-y as on October 8, 2010, against 10.7% in the corresponding period last year.
With continued economic activity, banks are likely to achieve the target of 20% growth in credit for FY11. The deposit growth of ASCB has slowed down to 15% y-o-y as on October 8, 2010 as compared to 20% a year ago. Given the credit pickup and growth in the economy, banks may have to speed up their efforts in the area of deposit mobilisation.
At the same time, the policy has taken cognisance of the potential downside risks, particularly inflationary pressures, which remain elevated with food inflation seen spilling over to other commodities. Rising food prices even in the wake of a normal monsoon has raised concerns about the structural nature of food inflation and its consequent impact on inflationary expectations. Further, when the economy is growing close to trend, the risks of structural food inflation spilling over into prices of other commodities are significant and that could potentially offset the recent moderation.
Thus, containing inflation and anchoring inflationary expectation is the main stance of the monetary policy and the current hike in repo and reverse repo rates by 25 bps each is in line with this.
However, further tightening of monetary policy at a time when developed countries are considering further quantitative easing could incentivise capital inflows, which would only harden the rupee and hurt exports.
The transmission mechanism between RBI and rest of the financial system does not work very fast. It always works with a time lag. So, whether the hike of key rates like repo and reverse repo by the central bank will raise pressure on the system will have to be examined.
Eventually, it may put pressure on the rates . Whether there would be immediate reaction by the banks also has to be seen. But the banks may not rush for raising their rates. There would be some banks who would be thinking of raising rates, it would be kicker for them. For other banks it may not be so. So, there would be mixed reaction, Overall, the policy has successfully managed the challenge of keeping money supply and inflation under control without disturbing the growth momentum.
The writer is SBI chairman